CPS ENERGY AUDIT SERVICES DIVISION Report to the Board of Trustees RE: ‘Special Investigation Regarding STP 384 Cost Estimate Inform December 7, 2009Table of Contents Background and Objective ... Scope and Investigative Approach ... ‘Summary of Evidence Roles and Accountabilities Investigation Findings Exhi 18CPS ENERGY AUDIT SERVICES DIVISION Report to the Board of Trustees RE: Special Investigation Regarding STP 3 & 4 Cost Estimate Information Background and 1 ive On October 27, 2008, San Antonio Mayor Julién Castro called a press conference with CPS Energy's Interim General Manager, Steve Bartley, to announce thatthe preliminary cost estimate for constucting STP Units $ & 4 had increased to $12 billon, an increace of $4 billon from the ‘amount publicly announced by CPS Energy in late June 2008. Due to this significantly higher cost estimate, the Mayor and the Interim General Manager agreed to postpone the planned October 29, vote of City Council to authorize a $400 milion bond issuance in support of the nuclear expansion. On October 30, 2008, the CPS Energy Board of Trustees the "Board”) requested thatthe CPS Energy Chief Audit & Ethie Oflcar, Helen Madison, immediately begin an investigation as to why (CPS Eneray management had not advised the Board that the preliminary cost estimate had increased to $12 blion. The investigation began the next day, Saturday, October 31, 2009, As requested by the Board, the abjacive af the investigation was fa answne tha folowing qtastons + Who knew what information, by whan, and who did they inform? ‘+ Was there malicious intent to withhold information? + Was there a falure to exercise prudent judgment andlor a fale to communicate ina timely manner? ‘© Did the individuals understand their roles and accountabilities? In addition to Ms. Madison, the investigation team included CPS Energy Audit Managers Lillan De Luna and Trena Wiseman. Ms. Madison also engaged Robert Bettac, a local employment attomey from the San Antonio office of Opletes, Deakins, Nash, Smoak & Stewart (Ogletree Deakins) for assistance and advice in conducting the investigation. lative Approa The scope of the investigation included review of several hundred e-mails, mesting notes, Board resolutions, contracts, presentations, and other documents and communications regarding STP Units 3 & 4. In addition, the investigation team conducted interviews of numerous individuals, as listed on page 2. From this information, the investigation team consincted a timeline of events, Which is included as Exhibit AReport o the CPS Energy Board of Trustees December 7, 2000 Page 2 of 65 Following are the individuals who were interviewed during the investigation. Most are CPS Energy employees, unless otherwise noted in parentheses following the individual's job tile. Name Job Title(s) as November 1, 2009 Steve Bartley Interim General Manager & CEO Larry Blaylock Director, Nuclear Oversight & Development ulin Castro Mayor (City of San Antonio) and CPS Energy Board member Bob Coward ‘STP Units 3 & 4 Project Team Lead (STPNOC) Paula Gold-Wiliams Executive Viee President & Chief Financial Officer Robbie Greenbium Chief of Staf tothe Mayor (Cty Of San Antonio) LD. Hollingsworth Chief Risk Officer David Jungman ‘Senior Director, Finance Mike Kotara Executive Vi President, Energy evelopment selynne LeBlanc-Burley Senior Vice President & Chief Administrative Officer Milton Lee General Manager & CEO John Moore Executive Vice President, Energy Delivery Services sim Nesrsta Vice President, Power Plant Construction and Nuclear Oversight Kevin Pollo Manager, Nuclear Oversight Kevin Richards Senior Vice President & Assistant fo the CEO; formerly STP Units 3 & 4 Project Team Lead (STPNOC) Bob Temple Deputy General Counsel; Secretary tothe Board; and Vice President, Nuclear Development ‘Summary of Evidence Below isa detailed narrative ofthe significant events outlined inthe timeline, 12007 Indicative Estimate In June 2006 NRG Energy (‘NRG"), one of CPS Energy’s partners in STP Units 1 & 2, ‘announced their intention to consiruct STP Units 8 & 4. Subsequently, in 2007, NRG began ‘negotiations with Teshiva Corporation (Tshiba’) to become the primary contractor for STP Units 3.& 4. On September 26, 2007, Toshiba sent lo STP Nuclear Operating Company (‘STPNOC'), Which was and is acting as agent forthe "Owners" (CPS Energy and NRG), i initial “indicative” estimate of the cost of the project. The inal indicative eetimate was based on the results of a study prepared for a proposed Tennessee Valley Authority ("TVA") two-unit nuclear plant that was to have been the same design as proposed for STP Units 3 & 4, The TVA “Bellefonte Study" was completed in 2005 and included very detaled costing. Toshiba provided to STPNOC a “mozitied” indicative estimate in November 2007 of _bilion.STPNOC then analyzed Toshiba's estimate and determined that” billon was a more realistic number for STP Units 3 8 4, taking into ‘account differences in the plant sites and other variables. This estimate of billon was Provided to the Owners by STPNOC in late November 2007, as a preliminary estimated ‘construction costporto the CPS Energy Board of Trustees — December 7, 2009, Page 3.0 65 The Board's Disclosure Directive (On October 29, 2007, the Board approved $206 milion in funding forthe “development” of STP Units 3 & 4. Aciitional funding was approved in 2008 and 2008, making the total approved funding 8 of this writing $376 millon. The October 29, 2007 Board resolution provided the fllowing We direct CPS Eneray management to report back tothe Board frequently during the nuclear development process on the results of its continuing public process, the status ofits negotiations of signficant contracts, its development of project cost estimates, its development of project financing alternatives, its projection of rate impacts associated with construction of new baseload generation, its ‘dentfication of risks and challenges for the project and is continuing validation ‘of assumptions that lad to the conclusion that nuclear generation represents the best choice amang the alternatives for new baseload generation Applications for DOE Loan Guarantees On May 2, 2008, NRG, in partnership with Toshiba, formed Nuclear Innovation North America LLC NINA’). NRG owns 88% of NINA: Toshiba owns the other 123%. The curent ownership interest in STP Unis 3 & 4 is divided equally t 50% each between CPS Energy and NINA, (On September 26, 2008, both CPS Energy and NINA applied to the U.S. Deparment of Energy (008) for loan guarantees which were being offered to encourage new nuclear development. A ‘comparison of the applications reveals that NINA’s estimate was $_billon, and CPS Energy's estimate was $bilion, NINA's application presented four different ownership percentages of ‘STP Units 3 & 4, including 100% ownership by NINA. CPS Energy's application Indicated only ‘equal ovmershio for each partner Toshiba's 2008 Estimate (On Ociober 28, 2008, John Bates of NINA sent an e-mail (Exhibit B) to Jim Nesrsta stating that ‘Toshiba's senior management is under the expectation that an estimate must be dolivered the week of November 3° to the Owners.... Tlhere needs to be a significant amount of effort fby Toshiba] with respect to developing an accurate [2008] estimate that takes the fllowing into account ‘Alter having the opportunity to review the estimate we will then schedule a Series of review sessions divided by scope and function. We have also discussed speci integrated teams on procurement and specification review that ‘STPNOC wil be kcking of | believe the approach is absolutely cical for CPS and NINA to got an estimate thal we can base future decision{s] on and submiting an estimate November 3°Report tothe CPS Energy Board of Trustees ~ December 7, 2008, Page 4 of 65 will not reflect the current market conditions nor our desire for a complete specication review. Qualtyis far more important than schedule on this efor. Toshiba had been preparing a Preliminary Estimate originaly intended for release in September 2008; however, the Owners requested that Toshiba take ino account the recent steep declines in the workdwide economy before providing a 2008 Proliminery Estimate. Toshiba responded that such re-work would be too resource consuming and they decided to instead dofer a re-calculation untl 2008. Subsequently, on July 15, 2008, Toshiba disclosed their draft 2008, Preliminary Estimate of § bilion to STPNOC in a PowerPoint presentation that declared the festimate to be “outdated.” (See Exhibit C.) EPC Agreement (On February 24, 2009, STPNOC, as Agent for the “Owners” (CPS Energy and NINA, specifically NINA Texas 3 LLC and NINA Texas 4 LLC), and Toshiba as Contractor entered into the "South Texas Project Units 3 & 4 Master Engineering, Procurement & Construction (EPC) ‘Agreemeni.” ‘The EPC Agreement represented a major milestone in the development of STP Units 3-8 4, A project of this magnitude carries eubstantial inherent financial risk for all contracting parties. ‘The Owners, on the one hand, would prefer that the contractor guarantee a firm fixed price. ‘The contractor (Toshiba), on the other hand, would prefer not to guarantee a fixed price, {due fo the constant fluctuation of al cost variables such as materials, equipment and labor, a5 well the seven- to eightyear length of the project, unless it includes higher than usual contingency ‘and other fees which would unreasonably inflate the total cost. The EPC Agreement seaks to ‘contol the risk to which both the Owners and Toshiba will be exposed. To achieve ths, the partios agreed 10 negotiate the pricing methodology they will use for determining all substantial costs associated with the project, Under the EPC Agreement, negotiation of the pricing methodology with Toshiba is to be ‘completed by December 31, 2009. Using this agreed upon methodology, Toshiba is also required to notify the Owners of its Proiminary Estimate ofthe cost of the project by December 31, 2003, Thereafter, under the EPC Agreement, Toshiba Is required to update the Preliminary Estimate annually unti licensing ofthe reactors is obtained from the Nuclear Regulatory Commission, which Is expected to occur in 2012. ‘The EPC Agreement further provides that, shorlly ator licensing, Toshiba will furish the Owners a fixed price for the project. These provisions of the EPC ‘Agreement figure prominently in the discussion that follows, In March 2009 the Cost Optimization Team was formed to review technical design specifications in an effort to identify potential savings. Also, in October 2009, the Innovation and Cost Reduction Team (ICRT), which includes some 24 cost reduction sub-teams, was created to review each ling item of any cost proposal presented by Toshiba or its sub-contractor, Fluor. PS Energy's 2009 Estimate Because of Toshiba's decision not to submit their draft 2008 Preliminary Estimate to the ‘Owners, in the May-June 2008 timeframe CPS Energy took two measures to create an updated cost estimate of its own. Firs, it created an updated estimate of constuction costs by escalating {adjusting for market changes) the indicative estimate provided in 2007 by STPNOC (based on Toshiba's estimate). Next, CPS Energy compared is updated estimate to @ modeling estimate created by the consulting firm Sargent & Lundy. The primary purpose of both estimates was to provide a comparison of nuclear to alternative types of electric generation sources (coal, gt Fenewables). CPS Energy’s internal estimate was virally the same as Sargent & Lundy's modeling estimate, a cost of $10 billon excluding financing costs. Ths estimate was substantially